Accounting: The Language of Business - Vol. 1 (Part 132)

I took some classes in accounting, but I don’t know anything about accounting. You know, when my accountant tells me all the things he does, it’s a foreign language to me.
Ray Romano

 Budgeting (Part E)

by

Charles Lamson

Direct Labor Cost Budget

The production budget also provides the starting point for preparing the direct labor budget. For Elite Accessories Inc., the labor requirements for each unit of product are estimated as follows:

Based on these data and the production budget, Elite Accessories Inc. prepares the direct labor budget. As shown in the budget in Exhibit 10, for Elite Accessories Inc. to produce 520,000 wallets, 52,000 hours (520,000 units * 0.10 hour per unit) of labor in the Cutting Department are required. Likewise, to produce 292,000 handbags, 43,800 hours (292,000 units * 0.15 hour per unit) of labor in the Cutting Department are required. In a similar manner, we can determine the direct labor hours needed in the Sewing Department to meet the budgeted production. Multiplying the direct labor hours for each department by the estimated department hourly rate yields the total direct labor cost for each department.

EXHIBIT 10 Direct Labor Cost Budget

The direct labor needs should be coordinated between the production and personnel departments. This ensures that there will be enough labor available for production. 

Factory Overhead Cost Budget

The estimated factory overhead costs necessary for production make up the factory overhead cost budget. This budget usually includes the total estimated cost for each item of factory overhead, as shown in Exhibit 11.

EXHIBIT 11 Factory Overhead Cost Budget

A business may prepare supporting departmental schedules, in which the factory overhead costs are separated into their fixed and variable cost elements. Such schedules enable department managers to direct their attention to those costs for which they are responsible and to evaluate performance.

Cost of Goods Sold Budget

The direct materials purchases budget, direct labor cost budget, and factory overhead cost budget are the starting point for preparing the cost of goods sold budget. To illustrate, these data are combined with the desired ending inventory and the estimated beginning inventory data below to determine the budgeted cost of goods sold shown in Exhibit 12.

EXHIBIT 12  Cost of Goods Sold Budget

Selling and Administrative Expenses Budget

The sales budget is often used as the starting point for estimating the selling and administrative expenses. For example, a budgeted increase in sales may require more advertising. Exhibit 13, below, is a selling and administrative expenses budget for Elite Accessories Inc.

EXHIBIT 13 Selling and Administrative Expenses Budget

Detailed supporting schedules are often prepared for major items in the selling and administrative expenses budget. For example, an advertising expense schedule for the marketing department should include the advertising media to be used (newspaper, direct mail, television), quantities (column inches, number of pieces, minutes), and the cost per unit. Attention to such details results in realistic budgets. Effective control results from assigning responsibility for achieving the budget to department supervisors. 

Budgeted Income Statement

The budgets for sales, cost of goods sold, and selling and administrative expenses, combined with the data on other income, other expense, and income tax, are used to prepare the budgeted income statement. Exhibit 14 is a budgeted income statement for Elite Accessories Inc.

The budgeted income statement summarizes the estimates of all phases of operations. This allows management to assess the effects of the individual budgets on profits for the year. If the budgeted net income is too low, management could review and revise operating plans in an attempt to improve income. 

*WARREN, REEVE, & FESS, 2005, ACCOUNTING, 21ST ED., PP. 882-885*

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